Price Determination Process – Find the Right Price with Price Determination

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How much should our new product cost? A question that is discussed a number of times right from the birth of the idea to the launch of the finished product. Price determination of new products is a difficult task, and as a consequence, our assignments over the years have shown that companies set the optimal price incorrectly in 9 out of 10 cases – and quite substantially so.

This article discusses the price determination process. If your existing products have higher priority, you may find more inspiration in our article on price optimization.

Starting point for price determination of your new product

Basically, there are three methods to determine a price: cost-plus, competitor-based, and value-based. There is no reason to go through them all, as the latter should be the starting point for any new product if the goal is to differentiate it on the market.

Which value does the product in fact render, and/or which value is perceived by consumers? These are the key questions, and the answers to them are often far from similar. We have seen products that were in fact more expensive than those of the competition and were still considered cheaper, because they were easier to work with. Many other examples show that consumers apply perceived intangible value to the factual value and are therefore willing to pay a premium. Separating the two is important both when it comes to price determination and to communication.

Pricing is part of other essential considerations

Price determination of a new product is not merely a question of price, as there are at least four essential areas that need thorough consideration in connection with pricing:

• Concept interest
• Consumers’ feature and product preferences
• Segmentation
• Portfolio cannibalization

Concept interest

Prior to pricing, it is relevant to uncover how many consumers have an actual interest in the product. Even with a well-defined market segment, there is bound to be a group that is not truly interested. For instance, if you want to place a dermatological laser on the market, your segment would be dermatologists. No matter what your price is, it is far from certain that all dermatologists would be interested. The benefits of the new laser may, in their opinion, not be worth the change; maybe they want to continue with what they are used to, or maybe they have recently bought a new laser that will still be written off in another five years.

So how big a part of the segment is realistically in the market? Here it is relevant to pose the concept interest question (example below) to a section of the target segment. The question also provides answers to how interested consumers are – how many are very or relatively interested, and how many are not dismissive but more reluctant.

Example of a concept test question:

Based on the previous presentation, how likely is it that you will purchase XX if it corresponds to the description and is reasonably priced?

1. Will definitely buy
2. Will probably buy
3. May or may not buy
4. Will probably not buy
5. Will definitely not buy

With this clarification of the segment’s true size, the next step is understanding the feature and product preferences that matter most.

Feature and product preferences within the segment

What do feature and product preferences have to do with pricing? And why discuss it now, when the product is close to being developed or close to launch?

These are relevant questions. Perhaps you have produced a product with such a clear and simple profile that you are able to skip these considerations. But most products that are launched consist of several qualities that may be configured differently, or a single feature may have different levels – for example, the battery time of a laptop.

That is why it is very relevant to uncover the relative importance of the most significant features, and not least the value – and thus willingness to pay – that the consumer applies. Uncovering this information brings transparency to which features it is most important to prioritize in the development phase, often resulting in reduced product complexity, and which ones are vital to the value proposition and should therefore be in focus in launch communication. Finally, setting the market price for individual features, and thus the overall product price, becomes more precise. Our experience shows that these conclusions often hold significant surprises.

Price determination should be founded in segments

It is generally known that any market has a number of segments. They are characterized by demographic or industry factors, and while they can be excellent variables for market communication, they are rarely useful for price determination.

Demand and value are the key to price determination and are often shared across demographics and industries. With technical products, there are often three common segments: (a) price-focused, where a basic product will do as long as the price is low; (b) technically focused, who want the best technical solution almost regardless of cost; and (c) service-focused, whose main concern is simply that the product works, is easy to use, and comes with good support. The question is rarely whether these segments exist, but rather how large they are relative to each other, what the willingness to pay is within each segment, and what effect this has on pricing as a whole.

Portfolio cannibalization and optimization

A much-overlooked factor in price determination is the possible cannibalization of existing products. Companies are aware of it, but it is often overlooked because estimations are usually little more than guesswork, even though large sums are potentially at stake – and, in the worst case, the new product’s business case or feature set itself.

Cannibalization is one thing. The truly interesting question is how to best compile the portfolio to optimize the company’s overall sales and earnings. When it comes to new versions of existing products, the question is whether the previous version should be retired to focus solely on the new one, or whether the two should co-exist side by side at different price points. The answer to this question is often poorly substantiated and based on perception rather than facts. This is where Contribution comes in.

Concept interest, feature and product preferences, segmentation, and portfolio cannibalization – and the price determination based on them – are all elements we bring together in a single analysis, often starting with a conjoint analysis.

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